This video grab taken from pool video footage shows Megaupload founder Kim Dotcom, attending the North Shore court in Auckland on January 25, 2012. Dotcom was denied bail in New Zealand, with a judge saying he was concerned the Internet tycoon's vast wealth meant he could flee the country if released from custody. Dotcom, also known as Kim Schmitz, is among seven people indicted by the US Justice Department and FBI accused of "massive worldwide online piracy of numerous types of copyrighted works, through Megaupload.com" and other sites. TOPSHOTS AFP PHOTO / POOL (Photo credit should read POOL/AFP/Getty Images)

If Hollywood needed to cast a villain for a movie about the fight against online piracy, it couldn't have done a whole lot better than Kim Dotcom.

The German computer programmer and founder of the online file storage service Megaupload lived larger than a James Bond foe. Dotcom, who legally changed his name from Kim Schmitz, lived in a $24 million mansion outside Auckland, New Zealand, and drove luxury cars with license plates that read "MAFIA" and "GUILTY." The former hacker was convicted in the early 2000s in connection with one of the largest insider-trading scandals in Germany.

In the panic room

Now he's in legal trouble again. On Jan. 20, New Zealand police arrested Dotcom with three co-workers as part of what could be the biggest criminal copyright infringement case ever. U.S. authorities have accused the four of willfully and repeatedly violating copyright law, alleging that executives knew of the illicit content on their servers and paid users who uploaded it. The New Zealand police say they found Dotcom in the mansion's panic room with a shotgun at his side. Dotcom was denied bail on Wednesday, although his lawyers are appealing, and faces extradition to the United States.

The movie and recording industries hope U.S. authorities make an example of Dotcom, whose company made $175 million in total revenue, according to the U.S. indictment. And that's exactly what concerns the technology world - especially the online locker services that, like Megaupload, allow users to store data (pirated or otherwise) remotely and gain access to it anywhere.

Many in Silicon Valley say the government's case against Megaupload will scare away investors and entrepreneurs that would otherwise create the next Dropbox, a darling of the cloud storage industry founded in 2007 and valued at about $4 billion.

'Collateral effects'

"There's a burning question about the collateral effects," says Andrew P. Bridges, a partner at law firm Fenwick & West, which worked for Megaupload on an unrelated case. "I think the copyright industries are hoping to put cyberlockers out of business through intimidation."

Megaupload's U.S. lawyer, Ira Rothken, has compared Megaupload to YouTube and says that the government is overreaching. "You have to balance the harm to copyright holders against the harm to society that comes from this terrible impact on the Internet infrastructure," he says.

Other companies that specialize in cloud storage are distancing themselves from Megaupload's lucrative business model.

"This has nothing to do with what we do," says Daniel Raimer, a lawyer and spokesman for the Swiss-based RapidShare service.

Others have made changes to their services in the wake of the arrests. Filesonic.net told users they could gain access only to files they uploaded themselves. The company Uploaded.to blocked U.S. consumers from its service entirely. To some extent, this is what Hollywood wants.

In the United States, the law that balances the interests of content owners and technology companies is the Digital Millennium Copyright Act. According to the law, Internet companies get "safe harbor" and aren't liable for any copyright infringement that takes place on their sites, as long as they don't know about it and quickly take down copyrighted material once rights holders ask them to.

So far, courts have given technology companies a wide latitude under the DMCA. Eric Goldman, a professor at Santa Clara University Law School who specializes in issues raised by new technologies such as cloud computing, says criminal prosecutions may be one way around the limitations of the DMCA, because the "safe harbors" protection doesn't apply.

"Cloud services have been increasingly confident that they're protected by DMCA," he says.

A related worry is that a crackdown on file storage services could scare away users. Megaupload may have hosted pirated content, but it also stored school reports and home videos that are now inaccessible.

"Leaving aside whatever other consequences there may be, there's a huge problem for customers of the online lockers," says Fenwick & West lawyer Bridges.

Studio executives say they're interested only in businesses based on piracy, not legitimate players. "Our goal is to go after the worst of the worst," says Viacom General Counsel Michael D. Fricklas.